U.S. Will Sue Major Banks Over Mortgages

Imagine you’re shopping for a new high-definition television. You’re looking around the store for the television with the best picture from a brand you trust. You pick the one you like, not the least expensive model but not the most expensive, either. You take it home, plug it in, and all the television can display is an image that’s been painted on. You open a panel in the bank, and where you expected to see electronics, there’s only crumpled-up newspapers. You were sold a dud, and didn’t know it until you had taken the “television” home. Furthermore, there’s no return policy.

No one should allow a company to sell a product whose components are drastically different than what’s advertised, particularly if the opportunity to evaluate the components doesn’t rise until after the product is sold. This is similar to the reason the Federal Housing Finance Agency is suing Bank of America, JP Morgan Chase, Goldman Sachs, Deutsche Bank, and other banks. The products were mortgage-backed securities. Banks sold these securities to investors as if they were low-risk investments. For a while, there wasn’t a problem. Eventually, the banks had trouble finding qualified borrowers to bundle into securities and extended loans to riskier home buyers.

Selling the mortgages as securities meant that every investment would be somewhat diversified across a wide selection of mortgages, and this diversification should have kept risk low, but the banks — and most likely the investors, as well — continued these transactions because everyone was profiting.

The banks were complicit in making the mortgages appear better by falsifying borrower income statements. Perhaps other parties were aware that the securities were riskier than advertised, but no company, not the investors nor the companies providing insurance for these investments, stepped in to bring attention to the risk. Every company was making too much money to stop and consider the downstream effects.

The FHFA is making the allegations and will file a suit in federal court within the next few days, according to the New York Times and the Wall Street Journal. The banking industry’s position is that a downturn in the economy caused the loss of value on mortgage-backed securities, not that mortgages offered to people who couldn’t afford them caused the downturn in the economy. Now the industry is concerned that a suit in which banks are required to buy back the investments would put the economy back on this ice.

For many years, the government (and the real estate industry and the banking industry) promoted home ownership in the United States. Owning a home became the new definition of the “American Dream.” Owning your own property is the only way to be free, and this philosophy stemmed from feudalism in England. Those who owned land ruled over others. It’s not quite the same in the United States; homeowners are still subject to their local governments, but the feeling of freedom that accompanies home ownership has persisted. Land ownership in feudalism was for the aristocracy, and unlike feudal times when there was little socioeconomic mobility, the promise of America meant that anyone could be a land owner — anyone could be in the upper class.

This drive to live a better life and increase social status led to the market finding ways for more people to afford to be homeowners, from the proliferation and expectation of bank-financed purchases through mortgages to creative ways for increasing supply like condominiums, home ownership without land. The business of home ownership is profitable, so there was no need to slow down. With incentives from the government and a stigma attached to renting, potential homeowners would do anything to qualify for mortgages so they could buy a home quickly rather than saving money first, and potential lenders would do anything to find more borrowers, bundle the mortgages into securities somewhat masking the risk, and sell them to investors.

Now society is paying the price. The economy crashed after the housing bubble became uncontrollable. Homeowners lost their homes. Investors in the mortgage-backed securities and the banks that sold them are jockeying for who will be held responsible. Should the banks be required to buy back the mortgage-backed securities?

In a perfect world I think banks should buy back the mortgage backed securities but in the real world this will not happen & I don’t see this lawsuit changing anything at all. The banks still run congress & will not lose an iota of power.

Where is the outrage against the rating agencies or rated all this stuff AAA without performing any due diligence in investigating what was buried inside each issue? Where is the heartburn against FNMA and Freddie Mac whose aggressive CEOs pushed to buy more and more and more so they, and their cronies could get rich off this market? Where is the anger against the politicians who drove for easier and easier money for people who had no business getting a mortgage, and those politicians used their influence to demand low or no down payment mortgages? Why no uprising against the Federal Reserve, who at that time continued tell anyone who would listen that there was no housing bubble, and the taking of huge amounts of equity for homes was a good thing for the consumer and the country?

While the banks were definitely major players, there is enough blame to go all around.

You’re right! Fanny and Freddie couldn’t buy but so many sub-prime mortgages by policy. So they changed the definition of a sub-prime mortgage to “a mortgage bought from an institution that specializes in sub-prime lending.” This in effect freed them from the policy because other lenders and banks didn’t “specialize” in sub-prime lending were in fact selling them. They then told Congress that the change wasn’t a willful attempt to get around the rules but merely a clarification – NOT.

Absolutely agree. But Congress needs to find other people to blame rather than accept any blame themselves. Barney Frank really did “roll the dice” on sub-prime mortgages, and the worst part is that it was the same people rewriting the rules in the new financial reform bill meant to prevent another crisis.

They should if the investment was truly misrepresented by them. However many of these were sold in tranches and those tranches were representative of the portion of the total asset base you were buying. To say that nobody knew the risk of low level tranches is wrong. Lower tranches were given higher returns but were to be the first not to get paid and the first to lose money. As far as the bank being complicit, that’s a stretch unless they lied. Due diligence is the responsibility of the buyer, the broker, and the rating agencies that failed to do ANY intelligent assessment of the underlying mortgages. This looks like some really really smart people blaming someone else when they weren’t that smart after all.

As someone who was working in the finance industry right in the middle of this when it was all going down, I can tell you that ANYONE who could fog a mirror was getting a mortgage. I can also tell you that the supporting players (appraisers, home inspectors, realtors, lenders) were all complicit in their efforts to get deals closed. When I found myself the only english speaker in a real estate transaction (the home buyer didn’t speak english, his realtor didn’t speak english, the home seller didn’t speak english, even the mortgage lender supposedly didn’t speak english) I realized that we were on board a runaway train that was quickly running out of track. Numbers were being fudged and, because I don’t speak spanish, I had no idea what was going on. The home buyer picked vegetables for a living and was being set up to buy a $650k home by his realtor with a $7000/month mortgage, no money down, 100% financing. The bank should NEVER have allowed the guy to borrow that kind of money. The house, of course, foreclosed the following year and I quit my job immediately following that transaction. I felt as though I was perpetrating fraud along with everyone else and, as it happens, my job evaporated anyway. There are thousands upon thousands of stories like this one. In a nutshell, the damage is done and I’m not sure what a lawsuit would accomplish. What sort of restitution is FHFA looking for? IMO, the housing collapse most certainly caused the economy to collapse and almost caused the collapse of the global banking system too.

Yes, I think the banks should take back the mortgages because their lax standards put the country in this mess. Is it possible? Probably not because they were packaged and sold. The next best thing is to refinance the property, Then they are faced with the issue of many people are under water. How do they remedy that/

I agree with Quest – at that time, anyone could get a mortgage. It was obscene, really, the ease with which the banks were lending to people who couldn’t afford to take on a mortgage of any size. I think the banks have a moral obligation to buy back the securities, but in reality, could they afford to do so? Probably not, IMHO.

And to add to what Al said, where is the outrage against these Boards of Directors who let this crap go on? Where was the SEC? (Although I’m not sure if they could have done anything about it.)

Love the analogy!!! Awesome! This is one in a long line of shady offerings by reputable (?) companies. Do extensive research before you invest!!!! And don’t go for the exotic products that you don’t understand!

Shouldn’t the folks who defaulted on their mortgages bear some responsibility for the failures of the investments? But I think that banks are being short-sighted in business when they sell their mortgages. The whole point of being a bank is that you make your money on the interest that mortgage-holders pay to you. If you’re writing the loans and then just turning around and selling them, you’re just a middle man.

Paul, everyone was looking for bigger and bigger profits. The net result was that with the rapid loan approvals by banks and other lending institutions such as Countrywide (who were pushed by their CEO, Angelo Mozillo aka The Tan Man to cut corners and cheat and lie while blasting at full speed to grow as big as possible as quickly as possible (who by the way had a sweetheart deal with Fannie Mae)), and the the quick sale of those loans to Fannie and Freddie, who in turn sold them to investors as low risk investments generated the crux of the problem in that no one had any skin in the game. And of course our regulators were asleep at the wheel, and our politicians were putting pressure on the lending institutions to ease up on lending requirements which further exacerbated the magnitude of the problems. Oy.

P.S. I do agree that those who accepted the loans bear some responsibility. That said there is a large amount of evidence which shows that lendee info was exaggerated and modified via bald faced lies without that loan-seeking-person’s knowledge nor approval. Others specifically asked for fixed rate mortgages and were assured that was what they were getting, and then later they discovered that they had signed on to high priced ARMs. And while caveat emptor applies, many were unsophisticated people. Have each of us read and understood every portion of our mortgage loan documents, and/or always hired an independent attorney to ensure our interests were taken care of?

You must be joking. The government goes in to save the banks since they are a foundation to the economy, and now they do an about-face an sue them! Ridiculous. This ludicrous move has the potetential to put the country into a deep and elongated recession, The citizens of the U.S. with the stupidity of acting like children are to blame. Noone wants to accept responsibilty. Fools whom took on too much debt are the heart of the crisis. This administration in D.C. will be voted out in 2012.

There were many people who did not understand the consequences of getting a mortgage. The banker said you qualify and they bought into it. Not everyone knows everything about everything. The blame lies with those who are educated in this field and knew what they were doing – whether they be in mortgages, banking, or the government.

Especially because of the behavior you described here, fraudulently altering lendee info, etc., I think banks should have to buy back at least the some of the mortgages. They made some terrible long term decisions for our economy. If we want to avoid such problems in the future, we need to remove any incentives for the behavior and the simplest way would be making them take the hit on the bad mortgages they made. American tax payers and misinformed investors should not be the ones defraying the costs of these bad loans that were deliberately made by the banks.

I’m no economist or financial wizard, but it seems pretty clear to me that the whole debacle came about because of simple, blatant corruption and too much breaking or bending the rules of common sense and practicality.

Will lawsuits resolve and “make whole” all the unfortunate families who were forced from their homes because they could no longer pay? Not very likely. I’m just sayin’…

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